From the Financial Hotline
By: Financial Hotline
Summer 2024 (Vol. 42, No. 2)
Q: My son’s employer switched his status from W-2 employee to independent contractor. How is that determined?
A: Many businesses use independent contractors to help keep their costs down and provide flexibility for short-term needs. If a worker is an employee, the company must withhold federal income tax and the employee’s share of Social Security and Medicare taxes, pay the employer’s share of Social Security and Medicare taxes, and pay federal unemployment tax. State tax obligations may also apply. A business generally must also provide that worker with fringe benefits if it makes them available to other employees.
If a worker is an independent contractor, these obligations don’t apply. In that case, the business simply sends the contractor a Form 1099-NEC for the year showing the amount paid (if it’s $600 or more). The contractor is responsible for paying self- employment tax and, generally, making estimated tax payments for income tax purposes in relation to the amount paid.
The IRS and courts have generally ruled that one of the key factors that determines the difference between an employee and a contractor is the right to control and direct the person in the jobs they’re performing, even if that control isn’t exercised. The issue of control is evaluated by asking several questions, including:
- Who sets the worker’s schedule?
- Are the worker’s activities subject to supervision?
- Is the work technical in nature?
- Is the worker free to work for others?
Another important factor is whether the worker has the opportunity for profit or loss based on his or her managerial skills. That is, can the worker apply independent judgment and business acumen to affect the success or failure of the work being performed? If there’s a lack of such opportunity, that’s one indication of employee status.
Workers who want an official determination of their status can also file Form SS-8. Dissatisfied workers you’ve treated as independent contractors may do so because they feel entitled to employee benefits and want to eliminate their self-employment tax liabilities. If a worker files Form SS-8, the IRS will notify the business with a letter that identifies the worker and includes a blank Form SS-8. The business will be asked to complete and return the form to the IRS, which will render a classification decision.
Q: I can keep up with the demands of my small business but cannot spend days collecting past due accounts. Do you have any suggestions to help?
A: Chasing down slow payers isn’t uncommon in today’s economic environment where everyone is trying to preserve cash flow. Here are six tried-and-true strategies for increasing your chances of getting paid:
- Request payment up front. For new customers or those with a documented history of collection issues, consider asking for a deposit on each order or a retainer fee for services.
- Charge fees. Consider implementing fees or finance charges on past due accounts. Place extremely delinquent accounts on credit hold or adjust their payment terms to cash on delivery.
- Reward timely payments. Crunch the numbers to determine the feasibility of giving discounts to customers with strong payment histories or to those who have improved the timeliness of payments over a given period.
- Communicate early and consistently. The squeaky wheel does get more attention. Set up regular e-mail reminders and place live phone calls to customers who haven’t settled their accounts. If necessary, consider executing a promissory note to prevent the customer from disputing the charges in the future.
- Offer alternative payment arrangements and methods. Offer short term payment plans for delinquent accounts. For example, you can give clients options to split payments into two, four- or six-monthly payments. Making it easy to pay online through payment methods such as Zelle, Venmo or PayPal can motivate clients to prioritize paying your bill faster.
- Get external help. If, after repeated tries, your collection efforts appear unsuccessful, as a last resort you might need to get outside help. Contact either an attorney who specializes in debt collection or a collections agency. But beware third-party fees may consume much of the collected amount and you will likely lose that customer.
If an outstanding debt is uncollectible, you may be able to write it off as a bad debt on your tax return. Be sure to document each customer’s promises to pay, details of your collection efforts and why you believe the debt is worthless.